OT RBlatch: Interesting question. The short answer is that I don't think the inflation protection is needed....yet. The reason is the massive international fund flows during times of downward market turbulence. We have all been conditioned by now to assume the US Dollar is just getting weaker and weaker and that inflation is around the corner. Inflation is coming, no doubt about that. But we have to get through the next phase of the massive bear market that is coming. The best indicators to watch during this secular bear market are the the strength of the Dollar as measured by the Dollar Index, and the volatility as measured by the VIX. A stronger Dollar signals weakness in equities is coming. As the Dollar weakens it triggers an equity rebound, especially in the 'reflation' type investments...precious metals, commodities, energy and Foreign country ETF's of those countries that are large commodity producers, like Brazil (EWZ). The VIX also provides important signals. When it drops under 20, like it did in January, it signals investor complacency and a high percentage of bullishness. With few people left to buy it signals an intermediate peak (or close to it) and should trigger a sell signal among informed investors. When we have severe volatility to the downside the VIX can rise precipitously, and the higher the VIX the more compelling it is to BUY equities. The more 'blood in the street' the more aggresive you should be buying.
That being said, I'll address your question in this way. I think, based on historic similarities between this current secular bear market and the 1929-1949 bear market, that we are going to be heading toward a seriously deep bear market correction. For the last couple of weeks we've been in an intermediate bearish downturn which should persist through February. Both the VIX and the Dollar Index should rise. When the Dollar Index starts to show signs of weakness it will signal an upcoming short term bullish reversal which is likely to be fairly strong. When that bullish reversal loses steam THEN the big bear will come out of hibernation and he'll want to eat....investors.
During periods of severe equity market downside turmoil there is an International flight to safety, which has meant and still means the US Dollar and US Treasuries. The fund flows are so huge that only the US has the capacity to absorb that liquidity as investors around the world leave risk assets like commodities and equities and move to safety. At that point they become more interested in return OF capital rather than return ON capital. Look at the action in the US Dollar Index over the 2008-2009 bear market. The US Dollar Index (USDI) was in a trading range from March 2008-Aug 2008 between 70 and 74. In August 2008, when the wheels starting coming off here and around the globe the USDI rose to 78. By September it had risen over 80. By the time it peaked in March 2009 the USDI had risen above 90. It then began to lose strength and that triggered (or signaled) the start of the nice bull relief rally we enjoyed from March 2009 until January 2010. So I expect that the same thing will happen during the next bear phase. The demand for US Dollar Treausuries, etc will rise, and interest rates will stay flat or fall. Because these severe market downturns are worldwide now, and they affect all risk assets. They are deflationary. Commodity prices drop. Unemployment rises, etc. Again, return of capital is more important during these periods.
Another instrument to look at is the Long Bond ETF (TLT). In June-July 2008 TLT traded at @ $80. By August of 2008 it had already risen to @ $95 as worried investors took money out of equities and went to government bonds. TLT then went through a choppy trading range, but by November 2008 there was so much fear in the equity markets around the world that TLT eventually spiked above $120. (By comparison TLT is currently trading @ $92). So if we get the BIG pullback starting this late spring or early summer then I expect TLT to act in a similar way. While it probably won't spike as high as $122, it could easily achieve a level in the $110-115 range. That equals demand for Treasuries, which equals lower rates necessary to attract the capital we need to borrow. Therefore, I would think that the inflation protection would not be needed until the big bear downturn of mid 2010-2011 or 2012 runs its course. THEN, of course, inflation protection would be of paramount importance for that portion of your portfolio not committed to equities and commodities. In fact, I will probably purchase some WIF, which is an international inflation protected bond fund, because it would also hedge what is sure to be increasing weakness in the US Dollar coming out of the big bear.
Sorry for the long, complicated response. But I wanted to provide some context for my answer. Sometimes we accept popular financial meadia simplicity and pundit opinions and fail to analyze what actually transpires during severe market downturns. We are debasing our currency, that is true. But we are doing in tandem with most of the rest of the industrialized world. China is perhaps the only country that is not printing money out of thin air and increasing government borrowing. But it has too many incentives to keep their currency artificially low at the present time, until their economy matures. A recent article I read predicts that by 2050 China will be responsible for 40% of worldwide GDP. America will be down at 14% by that time. China invests for it's future. America 'invests' in its past. (We spend 7 times more on people over 65 than on children under 18. That's just a fact.) So when China feels strong enough to flex it's increasing economic muscle it will probably supplant the US and the world's reserve currency will shift from the US Dollar to the renmimbi/yuan, just as it shifted from the Brittish Pound to the US Dollar in the early 1900's. Democracies that allow the recipients of tax expenditures to vote themselves more and more benefits and allow the true costs to be transferred to future generations are doomed to eventually fall. It's criminal that we are spending wealth that has yet to even be created. And we'll eventually pay the price for it. But I have to concentrate on the short to intermediate period so I can maximize my financial survivability. I can't change the country's direction, I can only "sail" with the prevailing winds. Have a good weekend.
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